VideoThings could be worse. Despite a dismal economy, companies with solid credit have had little trouble raising capital. And although borrowing is tougher for companies with a double-B rating or lower, capital markets are more diverse than they were back in July 1991, when default rates caused by the last recession peaked.
"There was no material source of nonbank capital in the loan market then," notes Dan Gates, senior vice president of Moody's Investors Service. "This time around, the leveraged loan market looks to be stronger, because you have an additional class of lenders." Gates is talking about collateralized debt obligations (CDOs), an investment vehicle invented about five years ago that slices up corporate loans or other assets into tranches with varying levels of risk. The investment-grade top tranches, which pay off earlier, have much higher credit ratings than the borrowers themselves, making them attractive to investors. "CDOs are one of the keys to providing capital to noninvestment-grade borrowers," says Gates.
Of course, some investors must also hold the lower tranches, including the unrated bottom, or "equity," tranche--often called the "toxic waste." American Express Financial Advisors, Conseco, and other institutional investors have all been burned recently by toxic waste from CDOs written four to five years ago. "Certainly some investors have already been shying away from CDOs," admits Jerry Gluck, managing director of Moody's CDO-rating team. "We have downgraded a lot of them this year."
Observers also say downgrades of CDOs lag behind downgrades of the underlying corporate debt--another worry for investors. "The good news," counters Gluck, is that sharp increases in spreads over Treasuries have increased the potential arbitrage for equity holders.
Can investors overcome the toxic fallout? "I think we are still seeing the CDO track record evolve," says Julie Burke, a managing director of Fitch IBC's Insurance Group. --Tim Reason
Wrong Numbers
Roger Oustecky, chief operating officer of Tenet International, a company that audits corporate telecommunications bills, claims that 80 percent of phone-company bills are wrong, accounting for customer overpayments of 7 percent on average. Spokespersons for phone giants Verizon Communications Inc. and BellSouth Corp. make a counterclaim of greater than 98 percent bill accuracy. Whichever number is closer to the truth, the fact remains that telecommunications costs still rank as one of the top four budget items for companies.
With that in mind, Russell Lipari, vice president, telecommunications, at Greenpoint Bank, in Lake Success, N.Y., decided to let Castle Rock, Colo.-based Tenet examine the bank's phone statements as part of an outsourcing agreement that pays Tenet based on the number of bills processed. Tenet cut the bank's telecom bill by between 5 percent and 10 percent during the first year, says Lipari, adding that so far, Greenpoint has "saved so much money that the first two years of outsourcing were essentially free." -- Joan Urdang
What Andy Knew
Regardless of his lawyer's insistence that former Enron Corp. CFO Andrew Fastow bears no responsibility for the company's collapse, the largest in corporate history, Fastow's own comments suggest that he does.
More than two years ago, as part of an interview with CFO, Fastow boasted that he had helped keep almost $1 billion in debt off Enron's balance sheet through the use of a complex and innovative arrangement.
"It's not consolidated and it's nonrecourse," he told this magazine. Maybe it depends on how you define "nonrecourse." In fact, the 10-Q that Enron filed on November 19, 2001, states plainly that the debt ultimately was Enron's responsibility. According to the filing, the $915 million debt was backed by Enron's obligation to extinguish it, if necessary with cash.
That obligation, as reported in the 10-Q, would fall to Enron if the company experienced a downgrade below investment grade by any of the three major credit rating agencies. Sure enough, that downgrade took place shortly after the disclosure of the $915 million obligation, along with another $3 billion in similar off-balance-sheet liabilities. And that downgrading, in turn, prompted Enron's bankruptcy filing.
Partnerships Within Partnerships
The debt that Fastow discussed with CFO was needed for a partnership called Marlin, which helped finance the Atlantic Water Trust, Enron's unconsolidated subsidiary. The Atlantic Water Trust in turn invested in Azurix, a subsidiary that owned a majority of the water facilities of a U.K. company known as Wessex.
"What we did," Fastow told CFO, "is we set up a trust, issued Enron Corp. shares into the trust, and then the trust went to the capital markets and raised debt against the shares in the trust, using the shares in the trust as collateral."
During the 1999 interview, Fastow boasted that the Atlantic Water Trust was so effective at minimizing Enron's balance-sheet exposure that several banks that had not been involved in the transaction later "came back and marketed it to us" as their own invention.
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